Private investors rush in for Direct Line shares: but are they fools or stock market sages?

The window for buying Direct Line shares has closed. Potential investors have nailed their colours to the mast – a green flag for those who bought in, or a Churchill dog’s ‘Oh no, no, no!’ for those who turned their noses up.

By all accounts, there has been a dash to get hold of the stock, priced in a range of 170p to 177p after a last-minute reduction, implying a mid-range value of £2.6billion.

The stock is being pushed to private investors via a select group of brokers, amid what City sources say is at best lukewarm interest from sceptical major institutions.

Standing on ceremony: New listings are launched amid much fanfare on the London Stock Exchange

Richard Hunter of Hargreaves Lansdown, which enjoyed a late spike in applications for stock, insists Joe Public was always going to be the best customer for a household name.

‘The very nature of the beast was that the retail investor would be involved,’ he says.
At online broker Interactive Investor, they’ve seen plenty of private investor demand too. Some 22 per cent of applications to buy stock were for the minimum value of £1,000, but the average was £4,000 and the highest order was for a cool £133,000.

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Head of marketing David Linsley said: ‘This is another sign that retail investors are feeling more confident about the stock market.’

For the bruised and battered City of London it’s all heartening stuff.
Goldman Sachs, Morgan Stanley and UBS, the trio of lenders bringing Direct Line to market, will be rubbing their hands after a barren period for advisory fees.

According to accountancy giant Ernst & Young, the main market hosted no listings at all during the third quarter.

‘Tumbleweed blows across London stock market,’ they lamented, conjuring images of weather-beaten bankers drawing for their iPhones in duels outside City wine bars.
But if this listing goes well – with full trading to start on Tuesday – more firms may be tempted to take the plunge.

Not everybody is greeting Direct Line with open arms, though.
There is a mood of scepticism around the float that demonstrates just how chastened observers of the stock market are these days.

On the plus side, Direct Line is well recognised, likely to offer steady dividend returns and is profitable – paying a £200m dividend to RBS only last month.
On the other hand, the positives are matched by considerable pitfalls.

The most pressing is regulation, what with a Competition Commission review of the motor insurance industry and meddling from Brussels.

The UK competition probe is predicated on the notion that premiums are too high, concentrating on how insurers of ‘at fault’ drivers end up paying over the odds for repairing vehicles. If the inquiry ends in measures to whittle down premiums, Direct Line will suffer along with its peers.

Meanwhile, the European Parliament votes next month on solvency requirements that would force insurers to hold greater cash reserves, further constraining profitability.

The economy is also crucial.
When times are tough, insurance is among the things that consumers dispense with. Those who already have insurance are more tempted to make spurious claims in the hope of making a fast buck.

A further deterioration in the European debt crisis, or bad news out of the US, could tip the industry on a downward spiral, making already fierce competition in the industry even more frenetic.

Furthermore, RBS still has to get rid of the rest of the company, having been ordered to do so by the European Commission as a condition of its £45billion state bailout.

The agreed schedule is that it must offload half of the firm by the end of 2013 and the whole lot by the end of 2014. That heralds more share offerings to dilute investors’ holdings – unless the insurance sector’s fortunes improve so markedly that the next offer is at a considerably higher price.

But those who have rushed in are by no means fools.
Direct Line has pledged annual increases in the dividend, likely to be between 50 per cent and 60 per cent of profits, or around 10p per share. That’s a healthy yield of 6pc in a world where good equity returns are scarce.

As for performance, new management has helped turn an operating loss for 2010 into a profit of £422million in 2011. First-half profit in 2012 was in excess of £100million, while the company reckons it can make savings of £100million by 2014. For investors, the jury is out.

At RBS attention now turns to the job of trimming the balance sheet even further. US bank Citizens could be next on the block, with Canada’s Toronto-Dominion Bank said to be interested. And Santander is waiting for Spain’s economic problems to ease before it completes the purchase of 318 branches from RBS.

If boss Stephen Hester can get to 2014 with all of these sales under way or imminent, the taxpayer may at last get their money back.
Fingers crossed.